Listen To This Bull

“We only owe for Direct Physical Loss.” This is purposefully misleading


This particular issue was something I dealt with a lot a decade or so ago and seems to be popping up again in many parts of the country. I am often asked by colleges and contractors whether consequential damages are covered by a policy.
The question arises after an adjuster inappropriately exclaims that the policy only pays for Direct Physical Loss. They oftentimes also argue that the policy doesn’t cover wear and tear or contractor negligence as a follow-up, as if that is somehow related. Since this is a big deal and the lynchpin of many disputed claims today, let me try to tackle it.

Traditional policy language dictates that the policy Insures For, Covers, or Pays for Direct Physical Loss (DPL) to covered property caused by a covered peril. DPL is usually not defined in the policy. Many courts consider the terms direct, immediate, and proximate to be synonymous with each other. One Texas Court came up with these definitions:

“A proper definition of ‘direct loss’ is loss proximately caused by the peril insured against… A proper definition of proximate cause would be that cause which in a natural and continuous sequence unbroken by any new and intervening cause, produces a loss, and without which the loss would not have occurred.”

Fed. Ins. Co. v. Bock, 382 S.W.2d 305, 307 (Tex.Civ.App.1964) (citations and punctuation omitted).

BUT WAIT… This all seems to relate to the cause of loss, and not what is “paid for”. Well, that all goes hand in hand.

What scope of work is going to be performed is determined by what damages are covered by the policy. So what is direct, and what isn’t? Any loss that is a direct consequence of the covered peril is a direct loss. Direct PHYSICAL Loss would be any part of the covered property that is physically damaged as a direct consequence of the covered peril.

Policies pay for DPL in specific ways depending on the coverage purchased. For most policies, DPL is paid for with a Replacement Cost Coverage (RCV) Valuation. RCV policies generally pay for the necessary costs incurred to repair or replace the damaged property. Necessary costs involve all parts of the property that will need to be repaired replaced in the natural course of repairing or replacing the damaged property.

What does that really include? Let’s give some examples:

Example 1: A water loss causes a plumber to tear out the drywall in order to access the plumbing that ruptured. If the adjuster is to be believed, the policy should only pay to repair the plumbing. Some drywall was directly damaged by the water, but not all of it. If the drywall that hides the plumbing was not damaged by the water, then the only reason it is being torn out is to gain access to the plumbing for repairs.

Is access to the damaged plumbing a part of Direct Physical Loss? You betcha.

There is no way to repair or replace the damaged plumbing without opening up the wall to gain access. That removal and replacement of the drywall is a part of the necessary cost incurred to repair the damaged property. The additional drywall work is a direct consequence of the water loss.

What about the painting of the new drywall, and the rest of the continuous drywall to match? Yup. That is part of the necessary cost incurred as well.

Example 2: A shingle is damaged on a roof by wind. The roofer determines that the shingle cannot be replaced without causing damage to the surrounding materials. (Lets suspend the proper repair technique of the Top Down method for a moment.) The adjuster is paying to replace just the shingle and says that they only owe for direct physical loss. If the adjuster is to be believed, then the surrounding shingles are damaged due to the contractor’s negligence or wear and tear, and are therefore excluded.

With the exception of only one policy that I’m aware of (Farmers Smart Plan), the surrounding materials that are damaged by the repair are all a part of the same loss and become part of the necessary cost to repair or replace the damaged property.

For the majority of policies, the damaged property is the dwelling, or the part of the dwelling damaged (roof), not just the shingle or component of the damaged part of the structure. If an adjuster tells you they are only going to repair then they are saying they are going to repair the dwelling or the roof.

Are they repairing just a shingle? Is there duct tape involved or something? NO. They are replacing a shingle as a part of a ROOF repair.

Part of the necessary cost of replacing a shingle on a roof is replacing any other part of the roof that is damaged as a result. Policies are not designed to pay for a repair that leaves the property in worse condition than before the repair.

The International Existing Building Code (IEBC) allows repairs that bring the property back to a pre-damage condition. It does not allow a repair that reduces the performance value of the building. If surrounding shingles are damaged, then the wind resistance is reduced. Any damage that is caused during the repair of the roof is not allowed, AND a direct consequence of the wind.

The consequential damages are all caused by the same Proximate Cause. The original cause of loss resulted in necessary repairs. If it wasn’t for the repair, then the consequential damages would not have occurred. If it wasn’t for the direct damage, then the repairs would not have occurred. The chain of events all lead back to the same cause of loss. If the chain of events are unbroken, then the proximate cause of loss is easily determined. Any consequential damage that is a part of this chain of events is a Direct Consequence of the covered peril. It is therefore a Direct Loss.

There is no reason to say that a policy pays only for DPL when there is an entire section generally titled “How we pay for a covered loss” or something similar. DPL is not a form of valuation, but a way of determining the scope of coverages. If DPL was a form of valuation then there would be some sort of definition for the term to help the insured understand how DPL is determined. DPL is not a valuation; RCV, ACV, RPS, etc are forms of valuation. These valuations are used to determine the amount of loss for the scope of coverages determined by DPL, not the other way around.

All of this is well established by courts across the nation. SO WHY ARE WE FIGHTING THIS?

Necessary costs of repair or replacement are an inherent part of the amount of loss determination. What is owed for DPL is an elementary policy issue that really has no business being disputed at this point, so why is it being brought up more and more these days?

The reality of the situation is that most adjusters that use this argument are taught how the policy works incorrectly and have not done much if any of their own research on the issue. Licensing and Continued Education of Insurance Adjusters are limited or underregulated in most states, and often allow the carrier to train their own staff. This inherent conflict of interest leads to poor claims handling even though the adjuster may believe they are doing everything they can for the customer. Most adjusters really are trying to help and just don’t realize that they are misrepresenting the policy.

Many carriers are also moving to a model that incorporates 3rd party consultants more than adjusters to handle their claims. If a consultant is directly negotiating the claim, they often are not policy experts that understand how the specific language is supposed to be used. The less educated the claims handler, the more disposed they are to do the wrong thing unknowingly.

It may be up to attorneys to determine if an adjusters’ ignorance is simply negligence or intentional bad faith on behalf of those hiring them. Until then, I think you should have a Public Adjuster or Attorney involved to tackle the policy interpretation arguments on your behalf. “Let us deal with the Bull!”

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